One of the few variables that could spoil the oil prices, which many see destined to climb higher, is the pitfalls facing global demand.
Global synchronized growth already came to an end earlier this year, although the U.S. is still going strong. However, it remains to be seen how long that can last, with the juice from the tax cuts set to wear off, tariffs raising consumer prices, a rise in retail gasoline prices and interest rates grinding higher.
But, the real danger to global oil demand is higher oil prices themselves, which to be sure, isn’t exactly a revelatory conclusion. However, while Brent crude surged to $85 per barrel, up from the mid-$60s at the start of the year, the price increase is astronomically higher in emerging markets, where currency weakness has wreaked havoc.
For instance, in Brazil, the real has lost around 20 percent of its value this year, a plunge that occurred at the same time that oil prices were rising. The one-two punch has translated into soaring prices for fuel. Bloomberg notes that in Brazilian reais, oil prices are now sharply above the 2008 all-time record high for oil prices. And not just by a little bit – prices are 50 percent higher than that peak. It’s no wonder that the country was crippled by fuel protests a few months ago, a series of events that forced the government to backtrack on market reforms for fuel prices. U.S. motorists may complain about higher prices at the pump, but they have no idea.
The story is similar in India, Indonesia, South Africa, Mexico and Poland, to name a few. In Mexico, oil prices in pesos are also above the 2008 peak. Incoming President Andres Manuel Lopez Obrador has looked at re-regulating retail gasoline prices.
India, no stranger to protests over fuel, is also seeing unease. The government is hoping to stick to its fuel pricing reforms, but next year’s presidential election is putting the Modi government under a lot of strain. Related: Gazprom's Bid To Maintain European Energy Dominance
This matters because the developing world accounts for the bulk of oil demand growth. Consumption is mostly flat in the U.S. and Europe.
But, while it is easy to observe the fact that fuel prices have skyrocketed in emerging markets, the hard part is trying to figure out how this impacts demand.
“The market appears to be extremely sensitive to perceived threats to the maintenance of demand growth,” Standard Chartered said in a note. “We believe it is likely these concerns that have kept
Brent crude prices closer to USD 80/bbl than USD 90/bbl.” The bank said that global oil demand growth dropped to a 21-month low in June at just 469,000 bpd above June 2017 levels.
However, this may have been an anomaly. The following month, demand grew at its strongest rate in over a year. “[W] do not expect global demand weakness to unbalance the market; it would take significant economic discontinuity for demand concerns to pull prices significantly lower, rather than just taking the edge off them,” Standard Chartered concluded.
Still, it is hard to ignore a growing number of economic problems. Inflation in Turkey rose yet again in September, and is up near its highest level during the Erdogan era. That comes despite interest rate hikes from the central bank. The inability to get a handle on inflation might prompt more rate tightening. That should push the economy down even more. Obviously, the sharp plunge in the Turkish lira this year, combined with higher global crude oil prices, is contributing to this problem.
Argentina has seen its own currency crisis, prompting a wave of capital flight. Argentina received a bailout from the IMF, but in return the IMF demanded a well-worn prescription of austerity measures, which seem only to ensure that economic misery continues. Related: Should The U.S. Oil Industry Fear The Midterms?
Then there are a few economic landmines that have yet to erupt. The U.S-China trade war shows no sign of slowing. If anything, things will continue to deteriorate, with U.S. tariffs on $200 billion worth of goods rising from 10 percent to 25 percent at the end of the year. President Trump has threatened to go beyond that, and plans to do so could be in the works for tariffs on an additional $267 billion. China’s response last month was narrower, although it included a 10 percent levy on imported LNG from the United States. Crude oil was left off the list, but China may be saving that for the next round.
Another potential black swan is the economic problems in Italy, which could spark a rerun of the stress on the Eurozone. Italy is now run by euro-skeptics, and while there is no formal push for an “Italexit,” the markets are clearly worried. High public debt, exposure from Italian banks, anemic growth and the rise of anti-European sentiment all create plenty of risk. The spread on Italian 10-year bonds has widened recently.
Not to be outdone, the official Brexit still looms in the months ahead with talks deadlocked and Prime Minister Theresa May facing threats to her rule from former allies.
In short, there are a plethora of pitfalls for oil demand. For now, the warning signs are just warning signs. Most analysts still expect strong demand growth in 2019, although slightly less than this year.
In the meantime, supply shortages continue to dominate headlines, with Iran at the top of everyone’s minds. “Nothing matters between here and Nov. 4,” said Bob Yawger, director of futures at Mizuho in New York told CNBC, referring to the date for implementation of the U.S. sanctions on Iran.
By Nick Cunningham of Oilprice.com
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